Sony and Gaikai: The Cloud's Silver Lining

Sony's $380 million acquisition of cloud gaming platform Gaikai is big news, but it will surprise very few people within the industry. Rumours of the tie-up have been circulating since before E3, and many people expected it to be announced in Los Angeles last month; instead, somewhat unconvincing denials were trotted out, along with the news that Gaikai had struck a deal to build its technology into Samsung TVs. An acquisition deal was always inevitable, though, and it's taken less than a month after the show for one to materialise.

Why inevitable? Because that's what Gaikai was built for. There are start-up companies which are designed for the long haul, with a long-term business plan and perhaps even the chance of an IPO down the line, but Gaikai was not one of those companies. Rather, it fell into a second category - the sort of start-up which is designed to rise fast and far off the back of great technology and intense self-promotion, to garner as much attention as possible, and ultimately to be acquired by a larger firm as close to the top of the trajectory as possible. If it hits that target, everyone makes millions - think Instagram, or Draw Something. If it misses, though, it crashes back to earth with absolute finality, because there's no real business plan for the long term - no way to make money as a standalone enterprise.

"There's no question that cloud gaming companies today exist to be acquired. There's no real market for their products yet"

Gaikai's founders might deny belonging in that category (they would have yesterday; they might not today), and OnLive's certainly would, but there's no question but that cloud gaming companies today exist to be acquired. There's a simple reason for that - there's no real market for their products yet. There will be; everyone knows that. But right now, the technology platforms they're espousing are running ahead of market realities by a matter of years rather than months. The world isn't ready for cloud gaming, which means that standalone firm providing a cloud gaming platform to consumers has little chance of commercial survival - but platform holders have to start preparing for the day when the world's network infrastructure catches up with the potential of the technology, so the acquisition exit is wide open.

A number of obvious questions arise from the Sony/Gaikai deal. Some of them are strategic - what will Sony do with Gaikai and its technology? How will Microsoft react? What happens to OnLive now? Other questions are purely financial in nature, most specifically, was $380 million a reasonable price and what does it mean for the valuation of Gaikai's competitors?

From a strategic standpoint, there's an expectation in some quarters that streaming technology will eventually replace client-side gaming entirely, with Sony's Gaikai acquisition already being trumpeted as proof of this "inevitable" market movement. The reality in the short- to medium-term will be much less dramatic. PlayStation 4 is not about to become a $99 thin client for cloud gaming; it will be a powerful client-side gaming console with lots of storage for digitally distributed titles and a Blu-ray drive for boxed titles. It will also, however, use Gaikai technology, not to replace the existing functionality of game consoles but to supplement it.

What Gaikai promises, rather than an alternative path forward for high-end gaming, is a variety of new opportunities at the low- and mid-range of the market. It's a fantastic option for selling access to a back catalogue, for example, and should provide Sony with many new opportunities to monetise the impressive back catalogue of PlayStation, PS2, PSP and PS3 titles. Those opportunities are not merely technical (although this should, in theory, eliminate some of the barriers to making legacy titles available on new systems), but also commercial. Subscription business models or the ability to use back catalogue access as a sweetener for other subscription products are also opened up by Gaikai - and Sony has already demonstrated an affinity for that kind of proposition with PlayStation Plus, which makes an increasingly impressive library of software available to customers for the duration of their subscription.

Gaikai is also, as its founder Dave Perry has been keen to emphasise from the outset, a great marketing tool. As game demos have grown in size, now often clocking in at multiple gigabytes, they've become less and less appealing to consumers - many of whom, especially in the United States, face tough bandwidth caps from their ISPs. Streaming offers a chance to let players try a game instantly without the inconvenience of a large download. It's a lot less appealing for a full game (the visual quality and input lag will be worse, while streaming a full game would probably end up being more bandwidth-intensive than downloading the client) but perfectly suited to demos. Given Gaikai's low client-side requirements, I feel that Sony would be missing a trick if this functionality didn't appear on PS3, let alone PS4.

"Gaikai everywhere means PlayStation everywhere. Televisions, smartphones, laptops, tablets, consoles"

Yet talking solely about consoles actually misses out on the real potential offered by Gaikai. The fact is that this kind of streaming technology is part of the answer to a challenge which Sony has been trying to overcome for the best part of a decade. For years, Sony has wanted to sprinkle some of the PlayStation magic dust over the rest of its consumer electronics range, but its efforts have never quite worked out. From the PSX, an ill-fated set-top box integrating a hard disc video recorder and a PS2 console, through to the Xperia Play, an ill-fated Android smartphone which plays a horrendously limited selection of PSone software (and doesn't sync up to your existing compatible purchases from PSN, a stark demonstration of just how much work Sony still has to do on getting its right hand to even acknowledge the existence of the left, let alone talk to it), Sony has tried many times to make PlayStation's success rub off on the rest of the business, but it's never worked.

Gaikai holds part of the answer. It won't solve the hard problems that exist within Sony itself - the right hand and the left really need to be on cordial terms - but it will provide a technological platform that can deliver content where it's needed, regardless of platform. The vision is straightforward - Gaikai everywhere means PlayStation everywhere. Televisions, smartphones, laptops, tablets, consoles, all accessing PlayStation Network and streaming your content from the cloud, finally allowing that extraordinary 15 year history of software to become a proper selling point for everything Sony. In fact, if Sony is being really clever, it will even extend this access beyond its own devices - honouring end extending Gaikai's E3 deal with Samsung to create an ecosystem around PlayStation which is accessible even from phones and TVs that don't carry Sony's brand.

As to the long-term future, who's to say? Actually, plenty of people are saying plenty of things - but we have a bad habit, as an industry, of conflating technological possibilities with market trends. The question of whether network infrastructure will leapfrog advancements in client-end hardware is a fascinating one which is worthy of debate, but at present - as the price, power and capacity of consumer chipsets and storage continues to plummet at a much more reliable and smooth rate than the growth in network throughput - it's not a business reality. Cloud gaming is one possible future; for now, though, it's just one part of a wider picture, not a looming threat or logical certainty.

"EA and Activision could be in the market, with OnLive being a better fit for EA's digital strategy, although EA's depressed share price makes a cash-and-stock deal harder to negotiate"

In terms of the second set of questions, regarding valuation, that's tough to answer simply because the valuation of a firm like this is largely in the eye of the beholder. Gaikai reportedly wanted half a billion; $380 million is a reasonable fraction of that, especially given that for the company to keep going for much longer would have required a significant new round of investment, seriously diluting the proceeds of an eventual sale. Gaikai is likely to be happy with the money it's received, while Sony won't consider itself to have overpaid, although talk of this being a "bargain" is also misplaced.

It does also pitch an interesting price point for OnLive, whose bosses would be hoping for a much larger price tag - given their high-profile consumer business, dedicated client hardware and so on - but may find themselves settling for less simply because their consumer business isn't actually that interesting to buyers who already own platforms, while the Gaikai/Sony deal takes Sony, one of the most likely bidders to drive the price up, off the market. Microsoft are probably interested - although they have some cloud services of their own they're a radically different technological proposition from cloud gaming - but would consider OnLive's consumer business an unwanted distraction. EA and Activision could be in the market, with OnLive being a better fit for EA's digital strategy, although EA's depressed share price makes a cash-and-stock deal harder to negotiate. I'd be surprised, though, if a deal isn't forthcoming before the end of the year. The early movers in cloud gaming are at the peak of their trajectory; the time has come to cash out.